Matters Arising On VAT - Income Model vs Gross Product Model

Proshare

Tuesday, September 17, 2019  /  10:43AM /  OpEd By Posi Tobosun & Olaniyi Olagoke  / Header Image Credit: bmmagazine.co.uk

 

It was in the news last week, that the Federal Government of Nigeria is planning to increase the Value Added Tax rate (VAT) from 5% to 7.5% - a proposed fifty percent increase. Some have harangued that the increase is justified because the rates applicable in other jurisdictions is as high as 20% in the EU, and averages 19.3% amongst OECD member States (although it could be as low as 7.7% in Luxembourg).

 

Some have also argued that increasing the VAT rate is a means of shoring up the revenue base of the tiers of government so that they would be able to meet the minimum wage obligations. The need to either shore up the federally collected revenues became even more imperative as the mid-year review of the 2019 budget performance showed that VAT collections fell by 15% when compared with 2018 due to insecurity in the country leading to fall in industries' capacity utilisation with a knock-on effect on consumers' purchasing powers. For this proposal to be operationalised, it would have to be passed into an Act by the National Assembly.

 

How is VAT supposed to operate?

 

In the OECD environment inclusive of the EU, the VAT operates on the principle that it is the final consumer that bears the burden of the tax.

 

For instance, consider a value chain consisting of six (6) economic agents in that order thus: the farmer, wholesalers of farm produce, manufacturer of raw materials, manufacturer of finished products, retail shops, and the final consumers. Each of them is to charge VAT only on the value being added and at the same time recovering all the VAT paid on inputs. In essence, each economic agent in the chain charges 5% on the value being added. Ultimately it is the final consumer that bears the VAT burden which, when added together, will equal an effective rate of exactly 5% of the final price paid. This is what is known as the Income Model of VAT.

 

Contrariwise, Nigeria's VAT regulator, the Federal Inland Revenue Service (FIRS) does not operate the Income Model but the Gross Product Model whereby each economic agent cumulatively adds 5% to the gross price charged and not the value added. Therefore, it is unjust to compare the operation of VAT in Nigeria with those of the EU.

 

Using the case study illustrated earlier, the effective rate borne by final consumer could be as high as between 30 and 40% depending on the length of the value chain, making Nigeria one of the highest VAT levying jurisdictions in the world. Adding the incidence of the sales tax being levied by some State governments to the VAT, then one sees clearly the reason why Nigeria's business operating environment may not be beneficial to the manufacturers. If the proposed 50% VAT rate hike is implemented, it is likely to have immediate inflationary implications which could worsen the already precarious unemployment situation, which often come hand-in-hand with other unintended negative social costs.

 

So how can government generate additional revenue to plug the holes in public finances occasioned by the falling VAT receipts?

 

We believe this is an opportunity to rethink the whole taxation system to make it focus on encouraging local production and employment, encourage long-term economic growth through the widening of the tax base as well as reflecting the true federal status of Nigeria.

 

For instance, in Canada 13% VAT is charged locally, out of which 5% goes to the federal centre whilst the respective regions keep 8%. Similar model could be replicated in Nigeria whereby the respective State Internal Revenue Service (SIRS) administers VAT and remits an agreed percentage to the central government. This is likely to increase the aggregate VAT collectible since it would be locally driven.

 

This year, Ghana embarked on aggressive tax reforms which moved from a focus on taxation to encouraging local manufacturing. VAT has now been abolished on many items such as sale of real estate, equity shares, financial services, and airline tickets. In addition, they have reduced significantly, the VAT payable by SMEs from 17.5% to a flat rate of 3%. They are also in consultation with ECOWAS to abolish all import duties on raw materials and machineries imported into Ghana.

 

It would be shocking if the managers of the Nigerian economy have not considered the implications of these on the long-term flow of capital within the ECOWAS region.

 

Pending when a time long-term solution is found to the punitive Gross Income Model and the centralised administration of VAT which had been largely inefficient, perhaps the FIRS could increase VAT on luxury items to 15%, and leave the rate at 5% for the other items.

 

Proposing a uniform increase on VAT rate across board may be a lazy approach to fiscal policy management, and may make Nigeria to be further disadvantaged in attracting foreign investment given the state of energy and security.

 

In 2007 shortly before the departure of the President Obasanjo regime, a 100% hike in VAT rate to 10% flat rate was operationalised. It was however reversed immediately the President Yar'Adua government settled down as the proposal was not passed into law by the National Assembly. The same fate may attend this proposed hike if the manufacturers' association and the Labour union are able to convince the lawmakers to reject the bill.

 

 

About Authors

  • Dr Posi Olatubosun FCCA is a Senior Lecturer in a London University.
  • Alhaji Olaniyi Olagoke FCA is the Managing Partner of Olaniyi Olagoke & Co; Chartered Accountants, Lagos.

 

 

Proshare Nigeria Pvt. Ltd.

 

 

Related To VAT 

1.      MTEF Review: VAT Increase Could Be A Smoke Screen For Something Larger

2.     FEC Approves Increase In VAT To 7% From 2020, To Seek NASS Approval For Enabling Law

3.     Tax 101 - How The Proposed VAT On Online Transactions Will Affect You

4.     N311.94bn Generated As VAT in Q2 2019 - NBS

5.     FIRS Public Notice On Deduction At Source of WHT And VAT On Compensation Paid By Principal Companies

6.     NSE to Resumes Charging VAT on Commissions Applicable to Capital Market Transactions

7.     Re-Introduction of VAT on Market Transaction Charges Take Effect From July 25th, 2019

8.     Court of Appeal Affirms the Applicability of VAT on Services Rendered by a Non-Resident Company

9.     Countdown Begins to Expiration of VAT Exemption on Stock Exchange Transactions

10.  COA Upholds FHC's Decision On The Applicability Of VAT To Services Provided Outside Nigeria

 

Proshare Nigeria Pvt. Ltd.

 

 

Related News

11.   TAT - It Is Illegal To Impose Tax Based On Taxes And Levies Act Without A Primary Taxing Law

12.  Companies Operating In Nigeria To Pay A New Police Fund Levy

13.  Tax Appeal Tribunal Delivers Landmark Ruling against Abia State Board

14.  The New Migrant e-Registration Guidelines - Nigeria Immigration Service

15.  FIRS Issues Final Demand Notice To Companies Whose Bank Accounts Are Under Lien

16.  Tax Tribunal Rules That A Taxpayer Can Object To A Defective Assessment Even If It Has Been Paid

17.  Tariff Hikes and Rising Customs Revenue

18.  TAT's judgement on Employer's Obligation to Remit Tax on Voluntary Pension contribution Withdrawals

19.  Tax Appeal Tribunal Rules That Excess Dividend Is Liable To Tax At 30%

20. Nigeria: A Nation Pauperised by Tax Evasion


Proshare Nigeria Pvt. Ltd.


Proshare Nigeria Pvt. Ltd.

 

READ MORE:
Related News
SCROLL TO TOP